There’s still cause to worry about ECB bond-buying program’s legality

Germany’s powerful Constitutional Court looks like it’s having it both ways by criticizing the European Central Bank’s bond-buying program but leaving the decision on its legality to the more European Union-friendly European Court of Justice. But the red-robed German jurists could still offer a sting.

The Karlsruhe-based court, often described as the most-respected government institution in Germany, found that the ECB href=”http://online.wsj.com/news/articles/SB10001424052702304680904579368230722176484?KEYWORDS=constitutional”>probably overstepped its bounds with the program, but kicked the legal ruling to the European Court of Justice, the European Union’s top court.

The program, known as Outright Monetary Transactions, or OMT, was formulated weeks after ECB President Mario Draghi in July 2012 vowed to do “whatever it takes” within the bank’s mandate to preserve the euro. The existence of the never-used program, which can be fired up to buy virtually unlimited quantities of government bonds under strict circumstances, is credited with pushing Europe’s debt crisis to the back burner by allowing Spanish and Italian borrowing costs to climb down from potentially unsustainable levels.

The European Court of Justice is widely seen as siding with EU institutions when it comes to interpretations of EU law.

So in one move, the Karlsruhe-based court managed to uphold German probity, delivering a lecture of sorts to ECB President Mario Draghi on the perils of monetary financing of government debt while simultaneously avoiding the unpleasant task of calling into serious question a program credited with short-circuiting the debt crisis and clearing the way for a recovery.

The move “could either be a sign that the Court has reached its legal limits on European issues or that the issue is so tricky and touchy that it is better to pass it on. As regards the short-term outlook, the announcement should clearly reduce the Karlsruhe fear factor for the ECB. But not entirely. It is not a given that the European Court of Justice will only rubber-stamp the OMT program,” said Carsten Brzeski, economist at ING Bank in Brussels.

The ruling doesn’t fully remove the judicial risk, and not just for the reason Brzeski notes. Ratings agency Standard & Poor’s said the decision has no immediate ratings impact, but noted that the German court could still revisit the issue after the European Court rules. In addition, the limbo created by the wait for a ruling from the European Court of Justice — a decision that could take more than a year — could stir doubts.

“Until a preliminary judgment from the [European Court of Justice] becomes available, political resistance to activating OMT, should it be required, is likely to have grown following today’s strong and skeptical arguments by the [German Constitutional Court],” S&P said. “Differences between the two courts are likely to make a political consensus for activating OMT more difficult, both inside and outside the ECB.”

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